Pensions: On Mortality and Long-Duration Corporate Bonds

Milliman, an actuarial and consulting firm headquartered in Seattle, has completed a white paper on corporate pension funding based on its 17th annual analysis of the disclosures of the “Milliman 100,” that is, of the 100 biggest corporate defined benefit plan sponsors in the U.S.
The funded ratio of these pension plans in the aggregate is down 0.7%, from 81.9% at the end of 2015 to 81.2% at the end of 2016. That move itself is not alarming, coming as it does after an upward move the year before.
But the ratio itself “doesn’t tell the complete story,” Milliman cautions.Life Expectancy
More worrisome may be the implication in the report that it’s a decline in life expectancy that may be keeping these systems looking as sound as they do – 2016 was the second consecutive FY of decreases in life expectancy, which reduced actuarially determined benefit obligations by a healthy $3.8 billion
Milliman has been reporting for years now that the Internal Revenue Service has been attempting to update the U.S. pension regs insofar as they dictate the rates of mortality used for the valuation of defined benefits. But there is some new news here.
In December 2016, the IRS finally proposed its long-in-the-works regulations.
Even newer news? In January 2017, the new President of the United States issued executive orders that froze the effective date of all proposed federal regulations. The new IRS rules on mortality are among those affected by these orders, and there has as of yet been no review team created to get to work thawing it back out again. So the bottom line on the official mortality rates is … there has been no change.PBGC Premiums
Milliman’s report also discusses the premiums charged by the Pension Benefit Guarantee Corporation. [This is a U.S. government agency established in 1974. Pension plans pay annual insurance premiums based on the funded status of the plan and the number of participants. The insurance enables the payment of accrued pension benefits to participants in the event an employer sponsoring a DB plan goes belly-up.]
As the authors of the white paper relate, the Bipartisan Budget Act of 2015 reworked both the flat rate and the variable rate premiums for the PBGC. Under this act the flat rate was $64 per participant for plan years that began in 2016, and rises to $69 per participant for plan years that begin in 2017. For each of the next two years the per-participant amount is scheduled to increase again: to $74 next year and then to $80.
The variable rate premium is the portion that changes with changes in the level of funding. In 2016, this was $30 per $1,000 of PBGC-funded status deficit on vested benefits. This has become $34 per $1,000 for 2017. It will go up further in the years to come.
The white paper says that the variable rate premiums “are calculated based on a plan’s funded status determination, without respect to interest rate funding relief as afforded to plan sponsors under [ERISA] for purposes of minimum funding requirements.”
Indeed, since plan sponsors are now threatened with the prospect of escalating premiums in the years to come, the white paper tells us that “many plan sponsors have developed strategies to narrow their funded status gaps sooner than what may be required based on minimum funding.” This means that they may make plan contributions that are higher than what the IRS would require.
Given this background, it is perhaps unsurprising that employers’ plan contributions for 2016 were up from the year before, $42.8 billion total for the Milliman 100, up from $31.1 billion the year before.De-Risking
The white paper records a movement toward de-risking among the managers of large corporate pension plans. This means a move away from equity holdings. Equity allocations within the surveyed portfolios dropped to 36.1% by the end of 2016. Eight years ago it was about 46%.
This move away from equity has not implied a move away from the financing of private corporations. To the contrary, the white paper says, those plans “with heavy allocations to fixed income as part of a liability-driven investment … strategy have significant allocations to long-duration corporate bonds.”
Returns on such bonds “have almost matched the return on U.S. equities,” the paper assures us, “with both of th4ese assets contributing double-digit returns in 2016.”